What is an ETF?

Exchange-traded funds (ETFs) are baskets of stocks, bonds, or other assets that are pooled together into a single entity that investors can buy shares of intra-day on stock exchanges through their brokerage accounts. ETFs are very efficient investment vehicles that provide access to a variety of investments and investment strategies previously inaccessible to many investors.

How does a covered call strategy generate income?

Covered call strategies are often used to generate income within an investment portfolio; especially with names that has low capital appreciation potential in the short-term. It involves holding a long position in a stock and simultaneously selling (or "writing") a call option on that same stock. This can be a way to generate additional income from the stock, above and beyond any dividends or price appreciation.

When you sell a call option, you receive a premium from the buyer. This premium is the income that is generated from the covered call strategy. You keep this premium no matter what happens to the price of the underlying stock.

However, by selling the call option, you are giving the buyer the right (but not the obligation) to purchase the underlying stock at a predetermined price (the strike price) before the option's expiration date. If the stock's price stays below the strike price, the option will likely expire worthless, and you keep both the stock and the premium.

If the stock's price rises above the strike price, the option may be exercised by the buyer, and you would be obligated to sell the stock at the strike price. This caps your potential profit from the stock's appreciation at the strike price, but you still keep the premium. In essence, the covered call strategy generates income by accepting a limit on potential price appreciation for the underlying stock. It's considered a conservative strategy and can be useful for investors who are looking to generate income from their existing stock holdings without taking on significant additional risk.

What is "premium harvesting"?

Premium harvesting in investing is a strategy that involves selling options to collect the premiums. Here's how it works in more detail:

Options are financial instruments that give an investor the right but not the obligation to buy or sell an underlying asset at a specific price within a set period. When you sell an option, you collect a premium from the buyer. This premium is essentially the price of the option, and it provides income to the seller.

Premium harvesting aims to consistently collect these premiums by selling options, typically on a regular basis. This strategy can be used with various types of options, including puts and calls. By carefully choosing the strike prices and expiration dates, the investor seeks to balance the risk and reward.

It is worth noting that premium harvesting is not without risk. If the underlying asset moves significantly against the position, the investor may be obligated to fulfill the contract at a loss. Effective implementation requires skilled options trading and execution as well as dedicated monitoring to reduce costs and to maximum premium harvesting.

Is a covered call strategy suitable or available for all investors?

While a covered call strategy can be a valuable tool for generating income, it is not a one-size-fits-all approach. It requires careful consideration of various factors and alignment with the investor's overall investment goals, risk tolerance, and financial situation.

What is “return of capital” in an ETF?

Return of capital is a distribution made by an ETF to its investors that is classified as a return of the investor's original investment. Unlike dividends or interest income, return of capital is not considered income, and is not immediately taxable. Instead, it reduces the investor's cost basis in the ETF, which can potentially reduce the amount of capital gains tax owed when the investor sells their shares. Return of capital can be particularly useful for ETFs that use option writing strategies to generate income.

Key benefits of ETF structure for a covered call strategy?

An ETF structure can address three key challenges for covered call strategies. While a covered call strategy is a popular method used to generate monthly income flow by institutional investors and investors with large assets, it has not been available to all investors without understanding operational complexity to write calls, and constant portfolio risk monitoring to optimize yield harvesting. ETFs can address these areas with operational efficiencies in providing consistent exposure across multiple client portfolios; portfolio and risk management, leaving advisor time to make decisions on client portfolios as well as access for investors of all sizes.

Dispelling Myths Around ETF Liquidity

Investors often associate fund size or trading volume with ETF liquidity. This leads to the assumption that newer funds (i.e. funds with small amounts of assets under management or low trading volume) will be difficult to trade. This is not always the case.  

ETF liquidity is determined mainly by the liquidity of its underlying holdings, or its “primary liquidity.” How much an ETF trades within a given day, its “secondary liquidity”, is a lesser factor.  Often, when an ETF is new, secondary liquidity can appear small, yet primary liquidity may be deep - thus providing investors with the opportunity to achieve great execution of orders both large and small.

Are there best practices when trading ETFs?

For most individual investors, we recommend using a limit order.  A limit order places a maximum price to be paid (for a buy limit order), or a minimum price to be sold (for a sell limit order).  It’s akin to saying “only trade if we get this price or better.”  To choose a limit order price, we recommend looking at the current best bid/ask quote.  As a buyer, you may want to set a limit just below the current ask.  As a seller, you may want to set a limit just above the current bid.  

Note that there is the chance your trade does not get executed if the market moves, and you may need to update your limit to accommodate for this.  We would also recommend against using market orders for ETF trading.  Market orders, especially those placed early and late in the trading day when the order book is thin, have the potential to execute at a significantly worse price, leading to poor execution.

When trading ETFs, it‘s important to look beyond daily volume, and other on-screen indicators to assess liquidity. For any questions related to Kurv ETFs, including executing trades, please reach out to info@kurvinvest.com.

What is distribution yield?

Distribution yield is the annual yield an investor would receive if the most recent fund distribution remained the same going forward. The distribution yield represents a single distribution from the Fund and is not a representation of the Fund's total return. The distribution yield is calculated by multiplying the most recent distribution by 12 in order to annualize it, and then dividing by the Fund's NAV.

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